Conflicting Macro Objectives Essay

Question: Discuss whether there are conflicts between the government’s macroeconomic objectives.

The UK government has four main macroeconomic objectives for the economy:

1) High Economic Growth. Basically the government aim for high economic growth because, as real GDP increases, incomes grow, consumers can buy more goods and living standards rise. Also, the government earns more tax revenue because more income tax and corporation tax is paid. Additionally, because consumers are spending more, firms make more profit so investment increases and the economy becomes more efficient in the long-run.

2) Low and Stable Inflation. An inflation rate of 2% plus or minus 1% (measured by the CPI) is targeted. Low inflation is targeted because inflation devalues money and consumers’ real income so less can be bought and living standards fall. Low inflation also means domestic prices are low so domestic consumers buy more domestic goods and less imports, foreign consumers buy more domestic goods so exports rise and the current account moves towards a surplus. Stable inflation makes it easier for firms to plan and invest, and investment is key for long-run economic growth because it increases the productive capacity of the economy.

3) Low Unemployment. Low unemployment is desired because consumers earn an income so they can buy goods and increase their living standards. Moreover, low unemployment means the economy is operating near its full capacity, so the minimal amount of resources are wasted. Furthermore, low unemployment means most people are earning an income so crime rates should fall.

4) Current Account Surplus (or Low Deficit). The government aims for a current account surplus to make exports greater than imports, boost AD and real GDP.

These objectives, however, may come in to conflict with each other. We will now discuss the major conflicts that may arise.

Firstly, there may be a conflict between economic growth and inflation. An increase in AD means real GDP increases, so there is economic growth, but there is also demand-pull inflation. However, if economic growth occurs because LRAS shifts right (due to an increase in the economy’s efficiency) then real GDP increases, so there is economic growth, but at the same time there is deflation.

Another conflict may arise between unemployment and inflation. As the economy grows, unemployment falls, spare capacity runs out and resources are nearly all used up. To hire more labour, firms must offer higher wages, wages rise, firms’ costs rise and there is inflation. Although, if economic growth occurs because LRAS shifts right (due to an increase in the economy’s efficiency) then unemployment falls, spare capacity rises and there is deflation.

Lastly, there may also be a conflict between economic growth and the current account. As the economy grows, income increases, consumers buy more domestic goods and more foreign goods, so imports rise and the current account moves towards a deficit. However, maybe there is export-led growth, that is, exports could be rapidly increasing, the current account moves towards a surplus, AD rises and there is economic growth. A current account surplus could be driving economic growth. Also, maybe economic growth is occurring because LRAS is shifting right. This means domestic prices fall, domestic consumers buy more cheap domestic goods and less imports, foreigners buy more domestic goods so exports rise, and the current account moves towards a surplus.